The global economy and the Fiji dollar

The global economy and the Fiji dollar David de Garis Senior Treasury Economist Fiji, February 25

Today s talk 2 The global economy Outlook for major currencies and interest rates Australia and New Zealand: two Fiji major trading partners Outlook for the Fiji dollar

Today s talk 3 The global economy Outlook for major currencies and interest rates Australia and New Zealand: two Fiji major trading partners Outlook for the Fiji dollar

Global growth peaked in Q3 24 4 World IP and the OECD leading indicator World IP and purchasing manager sentiment 8 6 4 2-2 -4-6 % change from year earlier OECD composite leading indicator, 4 months forward World industrial production (3-mth moving average) LEI rose.2% in Dec but will keep falling in y-o-y terms for a while yet 8 6 4 2-2 -4-6 % change from year earlier Global purchasing managers index 3 mths fwd (right scale) World industrial production (3-mth moving average) % PMI Perhaps stabilising 6 58 56 54 52 5 48 46 44 42 4 1 2 3 4 5 1 2 3 4 5 Note: IP is industrial production. The global PMI is constructed from PMIs for the US, Euro area, Japan, UK, Canada, Australia, HK & Singapore. Sources: OECD; Datastream; Economics@ANZ.

The US economy ended 24 with reasonable growth momentum 7 6 5 4 3 2 1-1 Purchasing managers (ISM) index Net balance (%) PMI Mfg growth threshold 1 2 3 4 5 Retail sales % change from previous month (excl. auto dealers and garages) Trend Actual Rose into year end but receded in Jan 2 3 4 5 1.5 1..5. -.5-1. 6 5 4 3 2 1-1 -2-3 Sources: Institute of Supply Management; US Commerce Department; Federal Reserve; Bureau of Labor Statistics. Industrial production % change from previous month Non-farm employment ('s) Trend Actual 2 3 4 5 Jobless claims trending lower through Feb Payroll employment change: 15k needed to hold U/E rate steady 2 3 4 5 5

China s economy has slowed a bit, and lower inflation removes some pressure for higher rates 6 Industrial production Retail sales 3 2 1 % ch. from year earlier Actual 6-mth moving average 2 15 1 5 % ch. from year earlier Actual 6-mth moving average 1 2 3 4 5 1 2 3 4 5 Money supply and bank lending 3 2 1 % ch. from year earlier M2 Bank loans 1 2 3 4 5 Sources: China National Statistics Bureau; People s Bank of China. 11 6 1-4 Producer and consumer prices % ch. from year earlier Producer prices Consumer prices 1 2 3 4 5 Reflects sharp drop in food price inflation

Global growth outlook more uncertainty than a year ago United States: the mainstay China the powerhouse: slowing not stopping! 7 6 4 2-2 % ch. from year earlier GDP 1 2 3 4 5 1 8 6 4 2 % ch. from year earlier 97 99 1 3 5 6 4 2-2 -4 Japan: structural improvement? % ch. from year earlier GDP 1 2 3 4 5 4 3 2 1-1 -2 Europe: lagging % ch. from year earlier Germany Eurozone 97 99 1 3 5

Oil prices and surrounding geopolitics remains a thorn in the side of the global economy 55 5 45 4 35 3 25 2 15 Crude oil prices US$ per barrel Spot West Texas Int. crude WTI futures (17 Feb '5) Oil prices have averaged $28 since 198 (in today s dollars) 2 4 6 8 1 ANZ expects oil to average $45 this year which would encompass some pull-back OPEC is now defending $4 as a base Politics and oil are an ugly mix Iraq, the Middle East and political instability in some oil producing economies is keeping the market on edge OPEC is meeting demand which is holding up. OPEC is closer to capacity limits but supply disruption cannot be ignored the $9 average rise in oil prices this year has already cut.5% off world growth this year 8

Last year started strongly but then growth eased 9 World growth outlook 6 % change from year earlier 5 4 3 2 1 92 93 94 95 96 97 98 99 1 2 3 4 5 Sources: OECD; IMF; Economics@ANZ.

Today s talk 1 The global economy Outlook for major currencies and interest rates Australia and New Zealand: two Fiji major trading partners Outlook for the Fiji dollar

The number one currency market issue: the US current account deficit 7 6 5 4 3 2 1-1 US current account deficit and its financing US$ bn - four quarter moving total 6 5 4 3 2 1 4 3 Net foreign purchases of US bonds and stocks $bn (12-mth moving total) Foreign official institutions All others 99 1 2 3 4 Net foreign purchases of Treasury & agency bonds $bn (12-mth moving total) All others 11-2 99 1 2 3 4 Current account deficit Net equity investment Net borrowing Official reserves Other Note: equity investment includes corporate bonds. Sources: US Bureau of Economic Analysis; Department of the Treasury. 2 1 99 1 2 3 4 FOIs

The US dollar has already fallen significantly, if unevenly Real effective exchange rates 12 US dollar Other currencies 12 115 11 2 avge = 1 3-year high (1985) 14 13 2 avge = 1 Euro (up 22% since Feb '2) 15 1 12 95 11 9 85 (Down 17% from Feb 2 peak) 1 8 75 7 3-year low (1974 & 198) 91 92 93 94 95 96 97 98 99 1 2 3 4 9 8 Weighted average of Asian currencies (down 3.7% since Feb '2) 91 92 93 94 95 96 97 98 99 1 2 3 4 Sources: JP Morgan; Economics@ANZ. Asian currencies are JPY, CNY, KRW, TWD, HKD, THB, MYR, SGD, IDR, PHP and INR, weighted by 22 GDP at market exchange rates.

The US$ has had a mixed opening against major floating currencies so far in 25 13 EUR/USD USD/JPY 1.15 1.2 1.25 1.3 1.35 1.4 31- Dec US$ per (inverted) 31- Mar 3- Jun 29- Sep 29- Dec 31- Mar 115 11 15 1 31- Dec per US$ 31- Mar 3- Jun 29- Sep 29- Dec 31- Mar GBP/USD AUD/USD 1.7 US$ per (inverted).65 US$ per A$ (inverted) 1.8.7 1.9.75 2. 31- Dec 31- Mar 3- Jun 29- Sep 29- Dec 31- Mar.8 31- Dec 31- Mar 3- Jun 29- Sep 29- Dec 31- Mar Note: charts show daily data from 31 Dec 23 onwards. Source: Reuters.

The Federal Reserve will keep nudging rates to neutral (=>3%) but on a measured basis 14 8 6 4 2 3 2 1 % pa US fed funds rate Chairman Greenspan s Feb 5 semi-annual testimony Forecast 98 99 1 2 3 4 5 The Fed s preferred inflation measure % pa "Core" private consumer expenditure (PCE) price index 98 99 1 2 3 4 5 the economy has entered 25 at a reasonably good pace Inflation is low even with accommodative monetary policy Inflation not (yet?) a threshold policy driver for the Federal Reserve No doubt there are upstream commodity price pressures from oil, metals etc And a lower US$ could have produced more consumer inflation The Fed expects 1.5-1.75% for PCE inflation over 25 Sources: US Federal Reserve; Datastream.

Outlook for the US$ 15 No doubt, the US economy, after China remains the global economy s major growth spur and probably destination of choice The US budget deficit has appeared on the US Administration s radar with promises to halve the deficit by 29 and accelerate economic and social security reforms US interest rates are becoming attractive (2.5% cf ECB 2%; Japan %; UK 4.75%; Australia 5.25%; NZ 6.5%) We would not rule out one last phase of US$ decline, but we are approaching the end game of its demise; if it does decline further, a EUR/USD of 1.35-1.4 would likely be the Euro s peak; USD/JPY of 1-13 and up to 2 for the GBP

Today s talk 16 The global economy Outlook for major currencies and interest rates Australia and New Zealand: two Fiji major trading partners Outlook for the Fiji dollar

The RBA has recently signalled that rates could rise over the next few months 17 Inflation Interest rates 7 6 5 % pa 'Headline' Falling petrol prices and a rising A$ may force inflation temporarily below 2% this year 6.5 6. % pa Cash rate 9-day bill yield 4 RBA inflation target band 5.5 3 2 1 Excluding GST and 'volatile' items 1 2 3 4 5 6 5. 4.5 4. The RBA s tightening bias will be acted on at their March Board meeting (next week!) and likely again in April 1 2 3 4 5 6 Sources: ABS; RBA; Economics@ANZ.

The RBA thinks the Australian economy is stronger than official figures Economic growth Growth and NAB survey 18 7 6 5 4 3 2 1 annual % change Real gross domestic income Real gross domestic product 7 6 5 4 3 2 annual % change NAB trading activity Real gross domestic income Index 25 2 15 1 5-5 -1 1 2 3 4 1 1 2 3 4 5-15 Sources: ABS; NAB

The labour market is very strong, with many businesses reporting acute skills shortages 8. % 7. Employment 's Unemployment rate (LHS) Annual employment growth (RHS) 35 3 25 61. 6.5 6. 19 Proportion of population in employment % 2 6. 15 59.5 5. 1 59. 5 58.5 4. 1 2 3 4 5 58. 1 2 3 4 Sources: ABS

Australian house prices rose faster than almost anywhere else in the world from 1997 to 24 Increases in house prices selected Anglo-Saxon and Asian economies 2 25 % change, June 1997 - June 24 2 15 1 5-5 -1 Ireland Australia Britain US NZ Canada Japan Singapore HK Sources: national statistical agencies and real estate institutes; Datastream; Economics@ANZ

Housing sector leading indicators stabilising 21 Housing finance commitments Residential building approvals 1 $ bn per month Owner-occupiers (excl. re-financing) 2 's (annual rate) Actual 5 Investors 1 2 3 4 5 Surprise jump in Nov & Dec: RBA taken notice 15 1 Trend Still slowing, perhaps 1 2 3 4 5 35 3 25 2 15 1 st home buyer finance % of ex-refi total (12-mth mvg avge) average) Lower house prices are enticing 1 st home buyers back into the market 1 2 3 4 5 175 15 125 1 75 Home-buying sentiment Ratio saying "good time" to saying "bad" This series has been a good leading indicator of trends in house prices 1 2 3 4 5 Sources: ABS; Westpac/Melbourne Institute; Economics@ANZ.

Financial intermediaries lending growth showing signs of stabilising 22 Housing credit * Business credit 3 % change from year earlier 15 % change from year earlier 2 1 1 * incl. securitizations 5 1 2 3 4 5 1 2 3 4 5 Other personal credit Total credit 2 15 1 5 % change from year earlier 2 15 1 5 % change from year earlier 1 2 3 4 5 1 2 3 4 5 Source: Reserve Bank of Australia

Household debt and debt servicing are being closely watched by the RBA 23 Household debt to income Household debt to assets 16 14 % of annual disposable income 2 19 % of assets 12 18 1 17 8 16 6 96 97 98 99 1 2 3 4 15 96 97 98 99 1 2 3 4 Household net worth to income 7 65 6 55 5 45 4 % of annual disposable income 96 97 98 99 1 2 3 4 Sources: Reserve Bank of Australia; ABS; Economics@ANZ estimates. Household interest paid to income 9 % of annual disposable income 8 7 6 5 4 96 97 98 99 1 2 3 4

NZ economy: slowdown still not arriving! 24 Economic growth Unemployment rate and demand for skilled labour 6 8. % net balance, inverted -2 5 4 GDP growth 7. Unemployment Rate (LHS) 3 6. 2 2 5. 4 1 4. Difficulty finding skilled labour (RHS) 6-1 96 97 98 99 1 2 3 4 5 3. 96 97 98 99 1 2 3 4 5 6 7 8 Sources: ANZ National Bank, Statistics NZ

World commodity prices for NZ s key commodity exports still strong ANZ commodity price index 25 17 16 15 14 13 12 11 1 9 8 July 1986=1 World prices NZ$ prices World prices declined for the first time in 18 months in December but edged higher in Jan 9 91 92 93 94 95 96 97 98 99 1 2 3 4 5 Sources: ANZ National Bank

Any increase in risk aversion on the part of global investors would also weaken the A$ Measures of investor risk aversion and the A$ Equity market volatility Credit market spreads 26.8 US Index (inverted) 1.8 US Basis points (inverted) 5.75.7.65.6.55.5.45 VIX index (right scale) A$-US$ (left scale) 15 2 25 3 35 4.75.7.65.6.55.5.45 A$-US$ (left scale) Spread between yields on A-rated corporate and 3-5 year US Treasury bonds (right scale) 1 15 2 25 3 1 2 3 4 5 1 2 3 4 5 Note: The VIX index is a measure of US stock market volatility based on prices of options on S&P5 futures. Sources: Datastream; Economics@ANZ.

Slower world growth and a narrowing rate spread to cap the A$ s rise Traditional fundamentals and the A$ Commodity prices Interest rate spreads 27.9.85.8.75.7.65.6.55.5 US RBA US$ commodity price index (right scale) A$-US$ (left scale) 22-3 = 1 Large rises in contract prices for iron ore and coking coal will boost this index from April 5 1 2 3 4 5 6 18 17 16 15 14 13 12 11 1 9.9.85.8.75.7.65.6.55.5.45 US Australia-US 9-d interest rate spread (right scale) Basis points A$-US$ (left scale) This narrowing spread trend will continue after the RBA lifts rates in March/ April 1 2 3 4 5 6 5 45 4 35 3 25 2 15 1 5 Sources: Datastream; Economics@ANZ.

Today s talk 28 The global economy Outlook for major currencies and interest rates Australia and New Zealand: two Fiji major trading partners Outlook for the Fiji dollar

Outlook for the Fiji dollar (FJD) 29.9.8.7.6.5.4.3 Exchange rates: AUD & FJD US$ FJD/USD AUD/USD The Fiji dollar is pegged to a basket of currencies with the A$ having the largest weight 1 2 3 4 5 ANZ expectation of the A$/US$ breaching.8 in this half is coming to pass In part from a soft US$, but now: Expectations of A$ rate rises and booming commodity prices also large A$ positives The Fiji dollar is pegged to a basket of currencies with the A$/US$ the main key assuming a broadly unchanged FJD effective trade-weighted rate, on the above forecasts the FJD/USD could reach a peak of.65-.66 by mid year With the FJD/AUD easing from.77 to.75 by mid year as the A$ peak...... before FJD/AUD recovering as the A$ falls later in 25

Fiji dollar cross rates 3 FJ$ vs A$ FJ$ vs NZ$.9 US$.9 US$.8.8.7.6 AUD/USD.7.6 NZD/USD.5.4.3 FJD/USD 1 2 3 4 5.5.4.3 FJD/USD 1 2 3 4 5 FJ$ vs EUR FJ$ vs JPY.7.6.5.4 US$ FJD/USD EUR/USD 1.6 1.4 1.2 1.8.7.6.5.4 US$ USD/JPY (inverted) FJD/USD JPY 9 1 11 12 13 14.3 1 2 3 4 5.6.3 1 2 3 4 5 15

Key FJD-related FX rates & drivers 31 Dec 24 * Jun 25 Dec 25 Dec 26 US Fed funds rate (% pa) 2.25 3.25 3.75 4. - US$ 1.36 1.4 1.37 1.26 US$ - 13 13 14 11 A$ - US$.78.84.77.7 RBA cash rate (% pa) 5.25 5.75 5.75 5.5 Australian 1-year bond yield (% pa) 5.33 5.5 5.3 5.1 RBNZ cash rate 6.5 6.5 6.25 6. FJD US$.6.63.6.56 FJD A$.77.75.78.8 FJD NZ$.84.85.89.94 FJD -.44.45.44.45 FJD - 61.7 65.1 62.1 55.9 * actual

Summary 32 Prepare for some slowing in the global economy Watch oil prices; uncertainty in Europe and Japan The Fed is lifting rates gradually to around 3-4% The US$ has already declined significantly Perhaps one final phase of US$ decline but not enduring Australian and New Zealand economic growth will struggle Two RBA rate rises are in the pipeline; maybe one from RBNZ Spot FJD/USD is now appreciating with the A$; this rise could continue further (a final US$ decline phase ) but then follow the A$ down Under current arrangements with a managed FJD basket

The global economy and the Fiji dollar David de Garis Senior Treasury Economist Fiji, February 25